Credit Scores

By Thursday Bram on 4 January 2010 (Updated 7 April 2010) 0 comments
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A good credit score can get you good rates on credit cards, encourage landlords to rent to you, and even help an employer decide to offer you a job. A bad credit score, on the other hand, can significantly reduce your ability to take out a loan, from getting a mortgage to a credit card. Maintaining a good credit score is important, no matter what your financial goals are.

What Is a Credit Score?

Your credit score signifies the kind of credit risk the three main credit-reporting agencies — Equifax, Experian and TransUnion — think you are.

FICO

The number is calculated with a formula developed by Fair Isaac Corp, which is why your credit score may also be referred to as a FICO score. Fair Isaac uses a variety of information about your credit history, from the length of your credit history to how quickly you repay debts, to determine the risk a lender would face by extending credit to you.

But there are other factors your credit score takes into account, such as the amount of credit available to you and the types of credit you use.

Good and Bad Credit Scores

Credit scores range from 300 to 850. In general, you want to keep your score above 700, especially if you're planning to apply for a mortgage, car loan, or another form of credit. The best interest rates and terms are available only to individuals with excellent credit scores, typically considered to be about 760 (very few people actually receive a credit score of 850). An individual with a credit score below 620 would be considered a risk by most lenders and will usually be charged sub-prime interest rates — if offered credit at all.

Free Credit Report

While you are legally entitled to a free copy of your credit history from each of the three major credit reporting agencies every year, your credit score is not listed on those reports. Typically, you'll be required to pay to access your credit score. (Credit Karma gives you your credit score for free.) Each of the credit bureaus offers different tools to purchase your credit score, along with their version of a FICO score. There are both options for a one-time purchase and to subscribe to a monthly report. However, your free credit reports can also be useful in understanding your credit score, as well as improving it. You can receive your free copies through AnnualCreditReport.com.

How to Improve Your Credit Score

There are steps you can take to raise your score, but it's worth noting that your credit score won't be immediately improved. It's a process that takes time, which is why it is important to maintain a high score in the long-term, as well as when you're getting ready to get a loan.

The most important step you can take is to pay down any balances you have on existing lines of credit. The percentage of your available credit that you use is a determining factor in your credit score and should be below 30 percent if possible. Even if you pay off your balance every month, keeping your spending below that 30 percent mark can help significantly. Paying your bills on time and in full is also crucial to raising your credit score. Even one late payment can drop your score by 100 points — and late payments can affect your score for seven years.

For those individuals with low credit scores who find it difficult to make payments on time and in full, it may be worth consulting a credit counseling service. Such consultations do not damage credit scores and may help create a strategy that will reduce or eliminate debt — which in turn improves credit scores.

It's also important to limit the number of requests you make for new credit: each credit card application or other request can take off five points. If you don't have a credit history at all, you will need to get a credit card to start with, but try to limit the number of lines of credit you open. Your credit score will remain low until you've built up a solid credit history.

How to Maintain a High Credit Score

If you already have a high credit score, it's important to maintain that score for the future. In general, maintaining your credit score is a matter of common sense: pay your bills on time, keep balances to a minimum, and don't apply for credit you don't need. But because there are so many factors that can affect your credit score, there are a few other techniques to keep in mind that will help you keep your credit score up.

While it might seem that having fewer credit cards would improve your credit score, the truth of the matter is that you shouldn't close any credit card accounts, even if you don't routinely charge any purchases to those cards. The length of your credit history is an important factor in your credit score and closing accounts, especially those that have been open for a long time, can reduce your credit history and therefore drop your score. It makes good financial sense to make sure that you don't carry a balance on your credit cards, but to keep accounts active make a purchase with each card once a month or so. Pay it off in full — after all, you want to have as much credit available as possible.

You should also check your credit history on a regular basis. Mistakes can affect your credit score, even if you didn't make them. As long as you look through your credit report on a regular basis, you can identify any errors and request that the credit bureaus address them. While you are only entitled to one free copy of your credit report from each of the three credit bureaus each year, you can choose to stagger when you request your credit report from each agency. For instance, you can request your report from Experian in January, from TransUnion in May and from Equifax in September. That way, you can review your credit history every four months, without paying for extra copies of your credit reports.

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